EVEREST KANTO CYLINDER LIMITED FUNDAMENTAL ANALYSIS

Overview of Business

Everest Kanto Cylinder Limited (EKC), established in 1978, is a leading global manufacturer of seamless steel gas cylinders with over 20 million industrial gas and CNG cylinders currently in service. 

EKC operates two manufacturing facilities in India located at Tarapur (Maharashtra) and Kandla SEZ (Gujarat) and two international facilities at Jebel Ali Free Zone in Dubai and Pittsburgh (PA), USA, with an aggregate capacity of over 900,000 cylinders annually. 

EKC’s product range of industrial, CNG and jumbo cylinders are used for high-pressure storage of gasses such as oxygen, hydrogen, nitrogen, argon, helium, air, etc and finds applications in a wide variety of industries such as manufacturing, fire equipment/suppression systems, medical establishments, aerospace/defense, and automobiles apart from some specialized usage areas. 

The Company has a ~150-strong client base in these vertical segments including Tata Motors, Bajaj Auto, Hyundai, Toyota, BOC India, Praxair, Mahanagar Gas and Adani Gas. 

I have my own frame of analysis which covers the following important analysis points as mentioned below. 

Financial Analysis 

Operating Efficiency Analysis 

Margin of safety i.e. Self sustainability in the Business 

Business Analysis 

Size of opportunity 

Fund flow analysis 

Management Analysis 

Financial Analysis of Everest Kanto Cylinder Limited

Let us analyze the financial performance of Everest Kanto Cylinder Limited (EKC) over the last 10 years. 

Sales Growth 

Over the last 10 years, the sales of the company have increased at a growth rate of about 4% from ₹677 Cr in FY2012 to ₹949 Cr in FY2021. Further, the company reported an increase in sales to ₹1504 Cr in its last 4 quarters ending Dec-2021.

While, if we analyze the trend in sales growth of the company, then we will notice here that these sales growth was not smooth or we can say that the journey of the company over the last 10 years was not smooth. 

Sales of the company declined in FY2013 and it was declining continuously till FY2015. We can note here that the sales of the company have decreased from ₹677 Cr in FY2012 to ₹472 Cr in FY2015. Further, sales started to increase during FY2016 and FY2017 but again declined in FY2018. So, the journey of the company over the last 10 years was not smooth. 

Credit rating agency CRISIL mentioned, in its credit rating report of FY2018, that the Everest Kanto group's operating performance is affected by cyclicality in the end-user industry. Depressed growth in the industrial sector adversely affected demand for the company's product. The group's operating performance was also impacted by the geopolitical situation in the Middle East which was one of the major contributors to revenue and profitability. 

Since FY2019, the company is reporting consistent growth in its sales year on year and as of FY2021, sales of the company was ₹949 Cr. Sales of the company was ₹1504 Cr in its last 4 quarters ending Dec-2021. 

Operating profit and Operating profit margin

If we see the operating profit of the company, we will note here that the company was passing through a tough time from FY2013 to FY2016. Company has reported operating loss instead of profit in FY2013 of ₹28 Cr and in FY2014 of ₹19 Cr. 

Going ahead, the company has reported only ₹6 Cr of operating profit in FY2015 and again ₹6 Cr of operating profit in FY2016 which is quite low as compared to its operating profit of FY2012. 

Operating profit margin was also suffering during these mentioned years i.e. from FY2013 to FY2016. Further, the company has improved its operating profit margin year on year from single digit to double digit from 9% in FY2017 to 17% in FY2021. 

Company has reported net losses in these mentioned years i.e. from FY2013 to FY2016. The company has reported continuous losses of ₹132 Cr in FY2013, ₹138 Cr in FY2014, ₹98 Cr in FY2015 and ₹124 Cr in FY2016. 

Hence, the company was passing through a very tough time during these mentioned years i.e. from FY2013 to FY2016. 

However, if we see the operating profit margin in FY2016 to FY2018, operating profit margin  coupled with reduction in debt obligations from sale of land assets. Operating profit margin improved from 1 % in fiscal 2016 to 14 % in fiscal 2018 aided by recovery in business from cyclicality and impact of geopolitical tensions in the Middle east. Debt also reduced from Rs 578 crores to Rs377 crores in the same period aided by sales of assets in Gandhidham, Gujarat. Improvement was witnessed in debt protection metrics due to lower interest expense and improvement in net cash accruals.

We will also find out further, in this post, the reasons for such poor performance of the company during these mentioned years i.e. from FY2013 to FY2016 and we will keep those reasons in our mind to track the business of the company in the coming financial years. 

Problems faced by EKC in FY2013

Raw material volatility - Seamless steel tubes are the principal raw material used by EKC. Volatility in the prices or disruption in availability of raw material impacted the profitability of the Company. 

Other players also entered into the high pressure cylinder manufacturing business in India and China. It increased the competition in the business. 

Slow growth in the sales of CNG cylinders in India and globally was one of the reasons for the drop in sales. Company said in its Annual report 2013 that the overall growth and development of the CNG infrastructure has not been robust in the country. 

Company specified in its AR that Domestic CNG Growth is dependent on Government Policies and Plans. So, there was very less demand for CNG in FY2013 and the company was expecting that the policy decision by the government to steadily increase diesel prices at steady rate will turn some of the demand to CNG in the coming future. 

Slowdown in the Indian automobile industry negatively impacted the Company’s Growth. OEMs and retrofitters are the major customers of EKC’s CNG cylinders in the automobile sector. Any slowdown in cylinder off take from OEMs in India will adversely affect EKC’s operations/production plans.

Problems faced by EKC in FY2013 & FY2014 & FY2015

Company has mentioned similar issues that they have mentioned in FY2012. The company kept saying that they are facing difficulties due to the slowdown in the country and global economy. 

Some improvement Seen in FY2016

Demand for CNG indicated improvement in FY2016. Use of CNG as a vehicular fuel is well established and growing worldwide.

In an effort to curb air pollution and to improve ambient air quality in NCR & Delhi, the National Green Tribunal (NGT) in a landmark ruling on April 7th 2015 banned diesel vehicles over ten years old from plying on Delhi roads and all petrol vehicles which are 15 years old shall not be registered in NCR & Delhi. It is expected that more numbers of CNG private cars would be added, as customers would prefer CNG over Diesel for their new purchases also. Accordingly, the company has seen some spike in sales of CNG cylinders from February 2016 onwards. 

But EKC's international business has not shown much improvement except for the US operation. Let us see EKC international business performance. 

China Operation

The China operations continue to remain under severe strain due to the intense competition from the local players who are much larger in size and product range, exerting demand and pricing pressures. The slowdown in the Chinese economy and the tough operating environment in China, especially for foreign players, also impacted the operations. 

Dubai Operation 

The Dubai operations which have been under strain since the third quarter of 2011 due to the sudden closure of its dominant Iran market due to economic sanctions imposed upon it continued to remain so. However, with sanctions getting lifted from Iran, the Iran market will soon reopen, this will bode well for the Dubai operations. The new markets in South America, CIS countries, Europe, etc. that have been developed are gaining traction and stability. However, the volumes and the margins continue to be low. 

US Operation 

The US operations have done relatively well during the year, in terms of turnover and margins. The order book position has improved and looks encouraging, with a larger proportion of high margin orders. The business prospects remain promising due to the expected uptick in the US economy and the encouragement to the natural gas sector prompted by the shale gas discovery (despite the recent challenges due to decline in crude oil price) and improvement in natural gas supply and distribution infrastructure. The Composite Cylinders did not see the expected ramp up in volumes due to the initial technical and other hitches, which have now been overcome. Going forward, this business is expected to grow well and will provide the required diversification. 

Apart from above, CRISIL credit report always indicates two quite important points that one needs to note here 

Working capital intensive nature of operations: 

EKCL's operations are inherently working capital intensive in nature due to procurement of majority of its raw material (Seamless Steel Tubes) requirement from China which takes a lead time of 3- 6 months coupled with relatively smaller credit period and maintenance of inventory. 

Volatility of raw material prices and foreign exchange fluctuation risk: 

Raw material (imported seamless steel tubes) constitutes the majority of operating expenses of EKCL. Fluctuations in raw material prices, therefore, tend to impact the PBILDT margins. Any adverse change in the exchange rate between the US Dollar and the Indian rupee will have a negative impact on EKCL’s financial performance as the seamless steel tubes (basic raw material) are fully imported. 

EKCL does not hedge its foreign currency exposure thus exposing itself to currency risk. However, with some of the OEM’s, EKCL incorporated escalation clauses in the contracts in order to amend variation in raw material prices or exchange rate.  

Interest coverage ratio 

While I prefer a company that has interest coverage of at least 3. If we see the interest coverage ratio of the company over the last 10 years, it gives a bad test as it was much lower than our benchmark. However, the company is continuously improving its interest coverage ratio from -0.5 in FY2013 to  5.5 in FY2021. Hence, now after looking at the interest coverage ratio of the company in FY2021, we can think that the company would not find it difficult to service its debt even in tough times. 

Debt to equity ratio 

While I prefer a company that has a debt to equity ratio less than 1. If we see the debt to equity ratio of the company over the last 10 years, it has improved from 0.6 in FY2012 to 0.3 in FY2021. 

However, debt to equity ratio crossed above our benchmark i.e. 1 during FY2014 to FY2017, but the company has managed further to improve it continuously and as of FY2021, it is 0.3 which is a very good sign and it indicates that company has repaid the debt. During FY2013 to FY2017, the company was having debt in the range of ₹544 Cr to ₹590 Cr which is now ₹203 Cr as of FY2021. 

Puneet Khurana says in EKC-Q2-FY21 concall that the company is focusing over the reduction of long term debt repayment and very soon long term debt will be repaid. 

Operating Efficiency Analysis of Everest Kanto Cylinder Limited 

Net fixed asset turnover (NFAT)

Let us analyze the Net fixed asset turnover (NFAT) of the company in the last 10 years. We will notice here that Net fixed asset turnover of the company was below 1 till FY2016. 

Since FY2017, Net fixed asset turnover (NFAT) of the company started to improve and crossed above 1. Net fixed asset turnover (NFAT) of the company was 1.21 in FY2017 and improved consistently to 2.92 in FY2021. 

If we observe the net fixed assets of the company, it is coming down from ₹678 Cr in FY2012 to ₹312 Cr in FY2021. While, sales of the company increased during this period from ₹677 Cr in FY2012 to ₹949 Cr in FY2021. It indicates that the company has improved its utilization level of its available manufacturing capacity. 

Inventory turnover ratio 

Let us analyze the inventory turnover ratio (ITR) of the company in the last 10 years. We will note here that the inventory turnover ratio (ITR) of the company was in the range of 1.3 to 1.7 i.e. below 2 during the phase when the company was suffering i.e.  till FY2016. 

Since FY2017, inventory turnover ratio (ITR) of the company started to improve. Inventory turnover ratio of the company was 2 in FY2017 and improved consistently to 3.1 in FY2021. As the business performance of the company improved,  the inventory turnover ratio of the company also improved. 

So, we can say that the company has improved its efficiency in inventory utilization. 

Analysis of receivable days 

Let us analyze the receivable days of the company in the last 10 years. We will note here that receivable days of the company were improving over the previous 10 years. Receivable days of the company were 74 in FY2013 to 54 in FY2021. 

Cumulative cash flow from operation (CFO) vs Cumulative profit growth (PAT)

We can note here that cash flow from operation for the last 10 years is ₹402 Cr and cumulative profit after tax for the last 10 years is ₹205 Cr. So, we can note here that the company is able to convert its profits into cash flow from operation. 

Here, over a period of last 10 years, cumulative cash flow from operation is higher than cumulative profit after tax. As we know that interest paid and depreciation will be deducted to determine PAT but will be added back to determine the CFO. Here, over the last 10 years, interest paid is ₹423 Cr and depreciation is ₹522 Cr and it is an important factor that contributes to cumulative CFO being higher than the cumulative PAT. 

Margin of safety in the business of Everest Kanto Cylinder Ltd. 

Self sustainable growth rate 

The self sustainable growth rate of the company was negative initially and became positive for the first time in FY2019 in the last ten years. Again it turned negative in FY2020 and positive in FY2021. 

So, we can conclude here that the company was dependent on the outsource fund like debt to meet its growth rate. However, the company showed efforts to repay the debt and it is clearly shown in recent years. 

Debt on the company has been reduced from ₹456 Cr in FY2012 to ₹203 Cr in FY2021. However, the company's sales growth rate is 4% over the last 10 years, 10% over the last 7 years, 13% over the last 5 years and 21% over the last 3 years. We can say that the company is focusing on its sales growth rate in recent years. 

But the company's self sustainable growth rate is much lower i.e. 3% in FY2021 and it indicates that company will not be able to meet its growth plan with its internal resources, Hence, company will have to be dependent on the outsource funds like debt and equity dilution. 

Dividend payout 

In FY2012, the company paid ₹2.68 Cr from its PAT of ₹4.3 Cr. 

In FY2013, the company was in loss and its PAT was in negative and still the company was giving a dividend. It indicates that the company had used the amount of ₹2.14 Cr from its debt to pay the dividend which is not a good sign. And further company realized and they stopped to pay the dividend from FY2014 to FY2020. 

Free cash flow 

During the period of FY2012 to FY2021, the company has generated cash flow from operation ₹402 Cr. During the same period, the company has executed CAPEX of 101 Cr. So, if we determine here the free cash flow for the same period, it will be ₹301 Cr. 

Business Analysis 

Over the last 10 years, the sales of the company have increased at a growth rate of about 4% from ₹677 Cr in FY2012 to ₹949 Cr in FY2021. Further, the company reported an increase in sales to ₹1504 Cr in its last 4 quarters ending Dec-2021. 

However, the company's sales growth rate is 4% over the last 10 years, 10% over the last 7 years, 13% over the last 5 years and 21% over the last 3 years. We can say that the company is focusing on its sales growth rate in recent years. 

So, if we see the sales growth of the company for the last 10 years, the company was not even passing the inflation rate too. But, during the last 5 years, the sales growth rate of the company is quite good. 

Self sustainable growth rate of the company as of FY2021 is only 3% and the company is focusing the sales growth higher than the self sustainable growth rate. On the other hand, the company is also focusing on the reduction of debt. Hence, It will be interesting to see how the company maintains its growth rate in coming years as the company is not able to maintain the growth plan from its internal sources of funds. It was noted during FY2016 to FY2018 that the company is repaying its debt by sales of the assets in Gandhidham, Gujarat. 

Size of opportunity 

The Oil & Gas sector is an important constituent of India’s core industrial sector with several industries being reliant on the availability and cost of various fuel alternatives. India is the world's third-largest energy consumption country after the U.S. and China and according to BP Energy Outlook 2020, the country's share in global energy consumption is expected to increase from 6% in 2018 to 12% in 2050. 

The country’s per capita energy consumption is slated to double in this period. Along with this, the contribution of coal-based energy is expected to decline with more reliance on green generation sources leading to reduced emissions on an overall basis. 

Underlying this trend will be a convergence in the contribution of natural gas in the energy mix for China and India, such that by 2050 gas could account for 15-25% of energy across every major global economy. India is primarily reliant on imports for its oil and gas requirements to the extent of ~80% and ~50% respectively. The country’s combined oil and gas imports are expected to more than double by 2050, driven partly by the increased shift from coal to gas. 

India's natural gas consumption is targeted to rise more than three-folds over the next decade, from about 170 million standard cubic meters per day (mmscmd) to 600 mmscmd, based on economic and environmental considerations. If this target is achieved, the share of natural gas in the country's energy basket will increase from ~6% at present to 15% by replacing coal and liquid fuels. This target is also aligned with the government’s vision for gas consumption by 2030. The country has committed investments of $ 60 billion to expand gas infrastructure that includes LNG import terminals, laying of pipelines and expanding city gas distribution networks across the country. 

CNG Usage trend  

Over the last five years, CNG infrastructure has already been expanding with the number of operating CNG stations in the country increasing to ~3,000 as on 31st March 202 and which is expected to grow up to 11200 by FY2030. 

In order to promote consumption of CNG over liquid fuels, the government has given maximum allocation of low-cost domestic gas to CGD companies. This has helped these companies get access to low cost gas. Retail pricing for CNG is market-driven without any regulatory control. While it may be expected that domestic gas prices will increase from current levels, the widening gap between liquid fuels and CNG is likely to ensure continued demand from domestic CNG consumers even at higher CNG prices.

Growing concern for the environment is another driver of CNG usage. Several initiatives are underway to create green transportation frameworks over the last few years with many Indian cities exceeding widely accepted benchmarks of air pollution. One of these is the vehicle scrappage policy, based on which older, polluting vehicles are to be taken off the road, paving the way for renewed demand for new vehicles. Another initiative likely to secure nationwide traction is the conversion of city/state transportation bus fleets and other means of mass transportation to CNG fuels. 

Industrial Usage Trends 

After the recent weakness, caused by the spread of COVID-19, the country is expected to rebound sharply next year. With renewed industrial activity driven by India’s focus on expanding its domestic manufacturing, the industrial demand outlook looks promising over the next few years. Within this framework, the demand for various gasses that power a variety of industrial activities is likely to expand as the country moves forward to meet its objective of 15% gas contribution in the fuel mix. 

India's industrial gasses market consists of oxygen, hydrogen, nitrogen, carbon dioxide etc and is forecast to grow at a CAGR of over 11% till 2023, driven by growing demand from across a range of industries including metals/steel, automobiles, refineries and chemicals, as well as from an increasing number of new applications for gas usage in the country. In addition, continuing growth in the country's healthcare and food & beverages sectors, among others, is expected to be an additional driver for the industrial gasses market. 

Supply to Medical Establishments 

Medical gas supply systems in hospitals and other healthcare facilities create an ecosystem of specialized gasses and gas mixtures including oxygen, medical air, nitrous oxide, nitrogen, carbon dioxide, medical vacuum and anesthetic gasses. 

Gasses are used across general wards, operating theaters, intensive care units, recovery rooms and other major treatment rooms. With the expansion of medical facilities in urban as well as rural areas, both public sector and private sector demand for medical gasses, cylinders and other allied equipment have been increasing steadily. Since March/April 2020, there has been a rapid rise in demand for oxygen cylinders as medical infrastructure is being expanded for the treatment of COVID-19 related cases. 

To support the required scale-up, government authorities have expedited the review of existing infrastructure for the production and supply of medical oxygen and cylinders in the country based on prescribed standards to ensure adequate, disruption-free supply chains capacity of medical oxygen. 

Aerospace and Defense 

The Global Aerospace & Defense Industry has grown on the back of rising commercial aircraft production and higher defense spending. Aerospace demand is focused on next generation, fuel efficient aircraft with order backlog continuing to rise. The industry uses gasses extensively for a wide range of applications including welding, cutting, heating, laser gas, thermal spray coating, heat treatment processes etc. 

In the defense sector, continued global tensions and geopolitical risks have driven higher spending – driven also by growing demand for replacement of fossil fuels with alternative fuels to operate aircraft, combat ships and vehicles as well as supporting equipment. 

Fire Safety Equipment and Fire Suppression Systems 

The global fire safety equipment market was estimated at $58 billion in 2018 and expected to expand at an average of 8.8% from 2019 to 2025. Demand for advanced fire safety systems may be driven by industries such as manufacturing, utilities, petrochemicals, mining, oil gas exploration, energy power, automotive and construction with countries across the world adopting stringent regulations mandating higher safety standards at industrial, residential and commercial locations. 

The fire safety systems and equipment market in India is expected to grow at 9% over the next few years, driven by rising awareness, widespread proliferation and pickup in demand even in Tier-II and Tier-III cities, backed by stricter government regulations. 

Global Demand  

Over the last 50 years, the energy mix of G20 countries has changed drastically with many countries/regions focusing on moving away from fossil fuels towards cleaner sources of energy. Thereby, the overall energy mix is becoming more diversified however, given the enormity of the task, the transition is a long process and most countries are still reliant on fossil fuels to a large extent. 

Up till the 1980s, energy consumption relied almost entirely on oil and coal. Some countries like the United States, Mexico, and Russia, also used natural gas – based on availability and cost of procurement. The overall trend began to shift in the 1980’s with the use of oil for energy starting to decrease. Higher oil prices forced many utilities to turn to coal, natural gas and nuclear power. 

In the 21st century, the focus has moved from efficiency and cost to climate change with the Kyoto Protocol aiming to reduce greenhouse gas emissions. One significant transition has been to cut back on oil and coal and utilize more natural gas, which emits substantially less carbon dioxide for the same level of energy produced. 

Natural gas can potentially support a shift out of coal in developing economies as renewables may not be able to grow at the pace required to fill the gap. This is already visible in India and some other Asian countries that are expanding the role of natural gas as a greater source of low-carbon energy. 

Next Post : Fund flow analysis of Everest Kanto cylinder Limited. 

Management Analysis and Fund flow Analysis

I will post Management Analysis and Fund flow analysis in our next post. 

Reference :

Screener

Annual Report

Credit Report

I am thankful to my mentor Anand Gurjeev Sir, Ishmohit Sir and Dr. Vijay Malik sir.

This post is only and only for educational purpose.